The E-Cigarette Revolution

Richard Craver, a writer for the Winston-Salem Journal, recently described the growing popularity of e-cigarettes. Bonnie Herzog, a Wells Fargo security analyst who has followed the tobacco industry for many years, described e-cigarettes as “here to stay,” suggesting that sales would reach $1 billion within a few years. In an Augustresearch note to investors, Herzog predicted that e-cigarette sales could surpass combustible cigarettes within ten years.

These predictions are based on impressive increases in e-cigarette sales since 2008. The chart illustrates UBS data presented by NJOY CEO Craig Weiss during a conference call with Goldman Sachs on December 14. U.S. e-cigarette sales totaled $20 million in 2008; they have doubled each subsequent year, to $500 million in 2012.

As Weiss noted, the explosive growth occurred even as the category was inundated with low-quality products that provided a suboptimal experience to smokers. That problem is being resolved by substantial investment in quality improvement. NJOY, which has a 40% share of convenience store e-cigarette sales, introduced King, describing it as “the first electronic cigarette with the look, feel and flavor of the real thing.”

Product improvements can be expected because cigarette manufacturers are also investing in the category. In April, Lorillard purchased Blu, and Craver reports that the company has invested $40 million in a marketing campaign. In July, Craver reported that RJ Reynolds launched e-cigarette Vuse in limited test markets in Virginia and North Carolina.

British American Tobacco announced Dec. 19 that it had purchased CN Creative. This company makes the Intellicig e-cigarette brand and Ecopure nicotine solution, which it says is produced with pharmaceutical- and food-grade products and undergoes stringent testing. BAT also owns Nicoventures, a company devoted to providing “a new choice to smokers looking for a safer alternative to cigarettes.

Nicoventures will focus exclusively on the development and commercialization of innovative regulatory approved nicotine products that provide a consumer-acceptable alternative to cigarettes without the serious risk to health of smoking. We want to explore the development of innovative nicotine products that, subject to regulatory approval, will provide smokers with an alternative to cigarettes and a product they actually want to use.”

Wells Fargo’s Herzog also notes that the steep decline in cigarette consumption will affect state payments from the 1998 Master Settlement Agreement. While cigarette manufacturers promised to pay the 46 MSA states about $206 billion over more than 20 years, their payments will be reduced if cigarette sales decline. This could lead state governments to impose excise taxes on e-cigarettes to cover those losses.

So far, e-cigarettes have avoided excise taxes because they are not classified as tobacco products. However, in 2011, federal courts ruled that e-cigarettes are tobacco products, so the “excise tax honeymoon” that e-cigarettes and their users have enjoyed won’t last forever.

The tobacco harm reduction revolution is unstoppable, and e-cigarettes are poised to play a major role. State legislators can facilitate smokers’ switch to healthier e-cigarettes by keeping excise taxes low, or nonexistent.